Americans have been using credit to buy things for about as long as America has existed, but the market for consumer goods has undergone massive change. So it’s very easy to forget how the plastic cards we rely on have become so prevalent.
Unfortunately, oblivion prevailed during the Senate Judiciary Committee hearing last week.
Supposedly a fact-finding mission into the fees retailers pay when customers swipe their card to make a purchase, much of the discussion left the impression that Visa
Nonetheless, the proceedings made it clear that Sen. Dick Durbin (D-IL) wants to extend price controls and routing mandates to the credit card market. (For those who don’t remember, Durbin was the author of Section 1075 of the Dodd-Frank Act of 2010, also known as the Durbin Amendment, which placed trading caps and restrictions routing on debit card purchases. Durbin also argued at the time that a 1-2% interchange fee for credit the transactions were “understandable because there is a risk associated with them”.)
The Durbin Amendment hasn’t worked out so well for consumers — and Congress should have repealed it in 2017 — but Durbin and his cronies aren’t about to admit defeat.
No matter how much evidence there is that the credit card network industry is highly competitive, the Durbin gang wants the public to believe a completely different story. Namely, Visa and MasterCard dominate the industry and use their power to charge absurdly high prices. And, of course, only Congress can solve the problem. (There’s a very long history of lawsuits in this industry, with both sides winning and losing at various times, but merchants didn’t want to take their chances in court when people started relying more on debit cards Hence, the Durbin Amendment and the new push to extend it.)
All sides in this debate are looking out for their best interests, but there’s good reason to be skeptical of the Durbin gang’s narrative.
First, when the credit card market – rather than the combined credit and debit card market – is considered separately, Visa has around 50% market share (by volume), while MasterCard and American Express
Instead, given the share of Americans who have particular cards, Visa has less than 50%, MasterCard has less than 40%, Discover has 18%, and American Express has 15%. Visa is certainly the biggest company, but there is no doubt that the networks compete for volume. In 2021, Discover gained 2 percentage points in market share, and several fintech companies continued to provide new competitive threats to traditional payment methods in the industry.
In other words, Visa and MasterCard do not objectively dominate the credit card market.
Either way, if Visa and MasterCard are really ripping off merchants, there’s an obvious solution: start a card network and lower their fees, taking all their business away from them.
There are approximately 150,000 convenience stores in the United States, over 20,000 independent supermarkets, and over one million retail establishments. If the Durbin gang is right and it’s so easy to run a network of cards while charging dramatically lower prices, these store owners are leaving billions on the table. So why not create a payments association, much like banks did to form the Visa network in the 1970s, and provide a direct competitor to existing networks?
They would likely make so much money that they might even stop paying the National Association of Convenience Stores (NACS) to advocate for lower merchant fees.
Of course, they should probably talk to the folks at Discover first.
In 1986, when Sears introduced the Discover credit card to compete with Visa and MasterCard, it had no annual fee, offered cash back, and charged no merchant fees. This no-fee feature was the reason Discover was the only credit card accepted at Sam’s Wholesale Club.
Eventually, Discover gained wide acceptance, but only after several missteps, losing millions of dollars, and changing strategy. Discover now charges interchange fees of around 1.5% to 3%, which is not dramatically different from the rates charged by Visa and MasterCard.
Retailers should also speak to someone at American Express, a company that also charges interchange fees of around 1.5-3%. And, of course, they should check out the folks at Venmo, the new payments company that charges merchants 1.9%.
At the very least, they will get extremely useful information on building and running a payment network in the United States.
It may seem like I’m being unfair to retailers, or maybe even naïve about Visa and MasterCard. But I am neither. There is no doubt that both parties are defending their own interests, and there is nothing inherently wrong with NACS defending its clients.
Still, it’s essential to keep in mind that NACS is asking Congress to play the role of judge and jury in the marketplace rather than testing its ideas in the marketplace. Card networks, on the other hand, rely on the market to be their judge and jury.
They are constantly testing their price in the market, trying to balance the interests of all parties to determine how much they can charge, at the risk of losing business when they charge too much. It’s as objective as we humans are going to be, and it’s one of the main reasons a free market is superior to a heavily regulated economy with government-imposed price controls and mandates. . That doesn’t mean everyone will be thrilled with the price they pay card networks, but that doesn’t matter.
I also have trouble taking the NACS position at face value for two reasons. First, their general counsel, Doug Kantor, asked Congress to consider getting rid of the networks’ ability to force merchants to accept all cards in their network. This demand completely lays bare self-interest – NACS simply wants leverage; they don’t care about saving consumers money.
If Congress takes away the ability of networks to force merchants to take all cards from their network, it will directly harm consumers and potentially threaten retailers. One of the main reasons why retail stores accept Visa and MasterCard for payment is that any consumer with a credit card in the Visa or MasterCard network can use it to buy something. NACS asks Congress to consider removing this benefit from networks and, therefore, consumers.
It’s essentially a threat to make the Visa and MasterCard networks smaller and more local rather than larger and national. It would be interesting to know how many NACS members, especially those who sell gasoline along interstate highways, really want this outcome.
My other issue with the NACS position is that Kantor’s written testimony misrepresents the facts regarding a Kansas City Fed research paper. According to Kantor (see page 5):
Economists at the Federal Reserve Bank of Kansas City have studied these fees and found that given the central fee-setting structure and the competitiveness of US retail, swipe fees will increase to the point that retailers could close their doors.
It is charitable to call this statement a misinterpretation. The research paper that Kantor unequivocally cites does not say that swipe fees will increase “to the point that retailers could go bankrupt.” The paper simply presents a theoretical model that attempts “to explain why merchants accept payment cards even when the fees they face exceed the transactional benefits they receive from a card transaction.”
And here is what the paper offers:
Even monopolistic merchants accept cards when their transactional benefits are lower than the fees they pay if they face elastic consumer demand. They do this not because they have a strategic reason, but because accepting the card drives up demand from their cardholder customers and thus generates additional sales.
The document literally explains why it might be in merchants’ interest to accept these payment cards even when the fees seem too high. It also predicts the following wellness outcomes:
Compared to cardless balance, if the network charges the highest merchant commission, then cardholders are better off (or at least indifferent), non-cardholders are worse off, and merchants are either better off or indifferent. The total consumer and merchant surplus depends on the price elasticity of aggregate consumer demand in the market. In markets where aggregate consumer demand is inelastic, the total consumer and merchant surplus with and without cards is the same.
In the case of elastic aggregate consumer demand, the model predicts that:
In the long term, merchant fees will converge to the highest possible level and product prices will also converge accordingly. With these merchant fees and product prices, the merchant profit with cards becomes the same as the balance profit without cards.
It is odd that Kantor’s testimony cites this article – the model provides theoretical justification for the very situation that NACS attributes to anti-competitive behavior. The model also suggests that the current situation is economically efficient and, at worst, welfare neutral.
Hopefully enough members of Congress stick to this basic truth: Price controls make more people worse off than they help. If members do this, they will see that the Durbin amendment is terrible public policy, and they will repeal it rather than extend it to the credit card market.